Saturday, May 1, 2010

First Quarter 2010 National Income Accounts

Gross Domestic Product data for first quarter of 2010 for the US were published Friday, April 30. Here is a mainstream news report, and the actual data can be found here.

There is a dominant narrative of doom-and-gloom from economy-watchers, and it comes from both ends of the political and economic policy spectrum. People who want more fiscal and monetary policy intervention, like Paul Krugman and Janet Yellen, preach doom-and-gloom. People who want you to think the Obama administration is doing a horrible job also preach doom-and-gloom. For example, this piece put out by the American Enterprise Institute has a somewhat uplifting title, but predicts 2.5%-3% growth for 2010, which is short of what a typical recovery looks like (average US annual real GDP growth is about 3% per year). Doom and gloom is not the only narrative of course. Kocherlakota is not doomy-gloomy, and neither is Daniel Gross. However, this quote, from the above New York Times piece, shows you the pervasiveness of doom-and-gloom:

Output would need to grow at least 5 percent annually for several years to get back on track — and perhaps what is more important, to stimulate enough job creation to employ the 15 million Americans already out of work and the 100,000 new workers joining the labor force each month.

Right now, many economists expect the nation’s output to expand 2.5 to 3.5 percent this year.

“Unless the pace of growth picks up significantly, we will see high unemployment rates for years to come,” said Josh Bivens, an economist at the Economic Policy Institute, a liberal research organization in Washington.

Of course, what we want to do here is to settle down a bit and be objective scientists. First, what is actually in the first quarter 2010 National Income Accounts data? Real GDP grew at 3.2% (seasonally adjusted at annual rates) in the first quarter. What sectors did the growth come from? Personal consumption expenditures were very strong, with 3.6% growth (and particular strength in durable goods with 11.3% growth), and investment in equipment and software (13.4%) and exports (5.8%) were both strong. This all looks pretty good, and along with the fact that inventory stocks are increasing a bit, is not atypical of how the US economy typically looks in the midst of a strong recovery. Note here that we are getting 3.2% growth at an annual rate in spite of strong negative growth in investment in residential and nonresidential structures, negative growth in state and local government expenditures, and strong growth in imports.

Why are we in a recession? First, since about 2000, we built a lot of houses, and non-residential structures as well, under false pretenses. Given incentive problems at all levels of the financial market, many people received loans to buy structures who would not have received these loans if Adam Smith's fictitious social planner had been checking. Of course, once we figured this out, the demand for residential and nonresidential structures adjusted to something closer to what is socially optimal, construction became unprofitable, and a big chunk of GDP went away. This, combined with the ensuing credit market shock that we are only beginning to understand, gave rise to the recession.

Now, what is unusual about this recession is that the drop in employment has been much larger, proportionally, than the drop in real GDP (think that our typical experience is that the percentage drop in employment is about 2/3 of that for real GDP). What's going on here? Well, some of this is just long-run sectoral change in the US economy - more services and less manufacturing, a shift in auto manufacturing from the north to the south, for example. As well, the sectors that are currently doing well - e.g. health services and information technology - use very different skills from residential and non-residential construction.

I'm beginning to think that some of the policy interventions during this recession were appropriate. While the Fed could be chastised for going into panic mode after the demise of Lehman Brothers, probably their early lending interventions were appropriate, though we still need to sort that out - hard to criticize, though, when no one knew what was going on. I don't like the Fed's massive purchases of mortgage-backed securities though - this is just working against the appropriate sectoral reallocation of resources that needs to happen right now. On the fiscal front, it is probably helpful that the federal government made transfers to constrained state governments and made unemployment insurance more generous, but most of the new expenditures on goods and services were put in place too quickly to be well-thought-out.

At this point in time, it's hard to say that things are not evolving in the US economy as the social planner would want it. The social planner would look at the stock of housing and non-residential structures in the United States and tell us to give construction a rest for a couple of years. In the meantime, she would be telling us to take the workers who were toiling as roofers and carpet-layers and send them to school so they can be nurses, doctors, and software specialists. The social planner would be packing up families in Detroit and Rochester NY and sending them elsewhere to look for work. And that's what's happening. Where's the output gap? I don't see one.

Now, there is plenty to be optimistic about. We have not had a severe recession since 1981-82. As is well-known, the silver lining in recessions is that we clean out a lot of crap - weak firms meet their demise and strong ones survive - all very Darwinian. Unfortunately we didn't clean out all the crap, as we kept General Motors and Chrysler alive (with the help of the Canadians, I might add). But productivity is growing at a high rate, and this is promising in terms of our ability to compete internationally and sell stuff to the rest of the world. Good news! Forget the doom and gloom.

One last thought. The American obsession with houses and cars is a weakness, and has lead to plenty of bad economic policy - Fannie Mae, Freddie Mac, the mortgage interest tax deduction, auto company bailouts. Sometimes people try to argue that there is some kind of positive externality associated with home ownership - what baloney! If there is some logic that says we should be bailing out GM and Chrysler, the same logic says we should bail out every potentially insolvent firm - get real!